The Sale Price is Never the Final Price When Buying A Home
2020-08-24 | 09:18:58
Happy Monday everyone!!
This incredible summer weather continues to roll along here in Southern Ontario and I hope that you all had a chance to safely enjoy your activities and time with loved ones.
I’m looking forward to this week because for one of my clients, it will be the beginning of their family’s search for their first home!!
Along with the tremendous help from one of my trusted realtor partners, we should be zeroing in on a home that will satisfy all of their personal wants in a home.
The size, location, distance to work and schools, including proximity to the places they like to go and people they like to visit all fall under some of the must have features of a home.
On budgeting for a home, things can some times be a little confusing for first time homebuyers when explaining how their down payment amount is applied towards the purchase.
Most first time homebuyers eagerly pledge their entire savings towards their down payment amount.
From the 5% minimum down payment and, in some cases, even those committing more than 30% down payment, all buyers wish for the following:
- Lower mortgage payments
- Lower mortgage default insurance premiums when the down payment is between 5 and 19.99%
For today’s conversation, I wish to focus on positioning one’s savings to also consider closing costs that elude people’s thoughts during the euphoria of pre approval, home search, accepted offer and mortgage commitment.
There is a lot going on during the home buying adventure that requires delicate attention.
Firstly, most people quickly come to realize that their current job status, income, credit score, monthly debt/expense obligations, etc., are intrinsically connected together when determining what maximum price range they are able to consider during their home search.
So much so that their life savings/investments being contributed to the down payment and, what price of home they believed they would qualify for, sometimes, does not match.
And that’s ok.
Closing costs are an extremely important factor not only to the homebuyer, but also to the lender.
Even with the best intentions and savings practices, one cannot commit their entire life savings towards a down payment. Closing costs and other expenses will add up in the thousands.
Many have correctly been told to protect a 2% plus of the purchase price in extra savings after all closing costs are calculated and paid at the time of closing at their lawyer’s office.
As such, it is important that the discussion of what expenses will eventually need to be considered on the day of closing begins as early as possible in order to protect the financial considerations of the client. This also contains the many high emotions experienced by the homebuyer throughout the entire period.
For example, suppose annual taxes are $7,200 and the seller prepaid the full year. If the closing date is August 13, the buyer is required to pay back 140 days of taxes back to the seller. That amount totals just over $2,760.
In some cases, property tax is also collected by the lender, in addition to the mortgage payment. Though this practice varies between lenders, some collect a few months of would-be property tax up front. If your property taxes are $7200/year, you can see how this can add to your closing costs.
Another closing cost is the mortgage interest adjustment date (IAD). The IAD is the day the lender starts calculating the normal interest you will pay. The IAD addresses the period between the closing date of the purchase and the beginning of the first payment cycle.
Though most lenders align your first payment period exactly one month after your purchase completion date, it is not always the case.
If the lender prefers to collect the mortgage payment on the 1st of the month and your closing date does not fall on the beginning of the month, your lawyer will explain that a partial month’s worth of interest will be charged to you.
The following example illustrates a mortgage for $869,400 with a 5 year variable rate of 1.86%*:
- Closing date is August 13, 2020
- First scheduled payment is set for October 1, 2020
- Your Interest Adjustment Date is September 1, 2020
- Your lawyer will collect an interest adjustment for the period of August 13 to September 1
- That results in an extra expense of $840.56 that you may not have been expecting
- Note that the interest adjustment is payable regardless of whether you chose a monthly, biweekly, semi-monthly or weekly mortgage payment
This final example of a closing cost that needs to be discussed with clients with down payment amounts with less than 20% is centred on the Provincial Sales Tax (PST) on mortgage default insurance premiums.
Imagine you intend to buy a $900,000 home with a $65,000 down payment. Your mortgage loan request would be $835,000 (cost of home minus your down payment).
Because the down payment amount is less than 10%, you will need to add a 4% insurance premium to your initial mortgage amount. This adds a considerable $33,400 to your total mortgage loan amount.
Though the extra amount of $33,400 is added and paid over the amortization period of the mortgage, you must pay the PST on the mortgage default insurance amount out of pocket on the day of closing.
In Ontario, PST is 8%.
As such, the above example adds an extra $2672.00 of expenses you might not have considered until a mortgage agent like myself has explained this, amongst other charges, that await a final closing to a home’s purchase.
It is my practice of illustrating to clients what home price range should be considered during their search. Sometimes the financing process has to begin at the end and include all of the extra expenses to be paid and, work back to capture the correct purchase price one will ultimately budget for.
Every homebuyer needs to know the most accurate dollar amount required for the purchase, which, as we see, is not calculated solely on the purchase price of a property.
We mortgage agents require all of the piles of financial information from our clients to evaluate what you can afford. One’s budget is based on many factors which the down payment amount you have prudently saved for, is but one important component.
There are a myriad of factors and expenses that when added on, a clearer picture of your budget is revealed; a budget that will protect your finances today and, during the payment cycles of your mortgage.
Some buyers become upset that their purchasing power is not as they believed.
Many ask that we do what we can to stretch their purchasing power.
There are so many moving parts revealed during the entire mortgage commitment.
My accomplishment is knowing your budget is mirrored to your financial reality. That you are able to rest knowing you truly can afford the home you and your loved ones are now living in, is your biggest accomplishment.
As always, call or email me to set an appointment to discuss your financing options and budget. Also, have our group at Capital 360, team you up with a realtor who is an expert in your desired purchase area.
Looking forward to your calls, questions and comments, I wish you all a great week ahead.
Sincerely,
Marco
